EU Commodity Markets and Trading:

An Introduction to Oil Markets and Trading

Mine Bolgil
BP Oil International

An Introduction to Oil Markets and Trading

Crude oil and its refined products
The oil supply chain and key market participants
Links between physical oil trading and paper
instruments
Global nature of oil markets and trading
2

Crude oil is refined into many products - their
yields are dependent on the crude oil quality

Decreasing

boiling

point

Fuel Gas

Crude Oil
LPG (Propane, Butane)
Naphtha

Light Kero (Jet)
Heavy Kero

Atmos Gasoil (AGO)

Light Vac Gasoil (LVGO)

Vaccum Gasoil
(VGO)

Vac Resid

Crude A

Fuel Gas

LPG (Propane, Butane)
Naphtha

Light Kero (Jet)
Heavy Kero

Atmos Gasoil (AGO)

Light Vac Gasoil (LVGO)

Vaccum Gasoil (VGO)

Vac Resid

Crude B

3

The oil supply chain involves trading at every
step

Production

Refining

Marketing sales

Integrated Oil Company

crude

purchases

crude

sales

components

product

purchase

s

3rd party
product sales

Producer

Refining & Marketing Company

4

and companies choose to get involved in
part or all of the whole the supply chain

Production

crude

purchases

crude

sales

Refining

Trading Houses

components

Marketing sales

product

purchases

3rd party
product sales

Trading Houses

Wholesaler / Reseller

5

Paper Instruments

1. FUTURES


standardised contracts for forward delivery, traded on exchanges
Common examples include ICE Brent Crude or ICE Gasoil, Nymex WTI Crude or
Nymex Unleaded Gasoline

2. SWAPS

standardised contracts for forward delivery, usually traded over-
the-counter (OTC)
Common examples include Eurograde gasoline and High Sulfur Fuel Oil swaps

3. OPTIONS

buyer of an option acquires the right - but not the obligation - to
buy or sell an underlying futures contract under certain
conditions, in exchange for a payment (premium) for that right

6

Major Global Trade Flows for Fuel Oil

Net Long

Net Short

Russia

NW Europe

Canada

USA

Latin & South
America

Source: Cera 2001 - ECM 2002

S Europe
Middle East

Africa

Korea

Japan
China

Singapore

7

Example of a crude arbitrage deal from
Europe to US

North Sea producer has

1 million barrels crude

Local Price: Dec BF + 10
Refiner looking for

1 million barrels crude
Willing to pay:
Dec WTI -20 per barrel

8

Example of a crude arbitrage deal from
Europe to US, executed on 1st October 2006

SELLER OWNS

1 million barrels (bbls) North Sea Crude
Loading: 22 October in N. Sea
Price: Dec BF + 10/bbl
Pricing period: Oct 23-27
Transport N. Sea US GC: $1.50/bbl
(Flat Rate = $11.54/mT, WS = 100)
Dec BF on 1st October = $74.50/bbl

OPPORTUNITY VALUE

BUYER LOOKING FOR

1 million barrels N. Sea crude, delivered
into US GC

Delivery: 6-8 November in US GC
Will pay: Dec WTI - 20/bbl
Pricing period: Nov 6-10
Dec WTI on 1st October = $76.50/bbl

Sellers Value of North Sea Crude = $74.60/bbl + Transport = $1.50/bbl.
Lands in USGC at $76.10/bbl

Buyer willing to pay for North Sea Crude = $76.30/bbl.

Value available on 1st October = $76.30 - $74.60 - $1.50 = $0.20/bbl

But this value is NOT guaranteed without hedging using paper instruments

9

Europe to US GC crude arbitrage - locking in the
value is done through use of paper instruments

SELLERS HEDGE
On 1st October:
Sell 1000 lots Dec WTI at $76.50
Buy 1000 lots Dec BF at $74.50

Buy Oct TD5 (freight swap) at WS 100
i.e. locking in freight @ $1.50/bbl

As cargo prices in 23-27 Oct, rateably
sell out Dec BF (200 lots per day)

As cargo prices out 6-10 Nov, rateably
buy back Dec WTI (200 lots per day)

Settle freight swap financially on 31
October

Remaining risk:

- Paper deal execution risk

- Physical operation risk

BUYERS HEDGE

*Assumes buyer is a refiner*

As cargo prices in 6-10 Nov, rateably
sell Dec WTI (200 lots per day)

As cargo is consumed in November
rateably buy back Dec WTI

Remaining risk:
- Crude may not be consumed in
November: would need to adjust
paper hedge

- Physical operation risk
- Changes in refining margins

10

Major Global Trade Balances for Gasoil

Net Long

Net Short

NW Europe

FSU

Canada

USA

Middle

East

Africa

South

America

Source: BP Stat Review - ECM 2002

China Japan

USWC

Korea

11

SUMMARY

Participants in the physical oil market choose to be
active in parts or whole of the oil supply chain
The physical and paper oil markets are inextricably
linked, in the main due to price risk management
The oil paper markets have a diverse set of
participants
Physical oil markets are global and linked through
arbitrage activity

SUMMARY